Record Cost Endangers First Utility Eurobond Sale in Decade: Poland Credit

By Maciej Martewicz – Oct 5, 2011 11:00 PM GMT+0100

Polish companies’ highest borrowing costs relative to the government in at least a year are threatening plans by the nation’s largest gas producer to sell Eurobonds.

Polskie Gornictwo Naftowe i Gazownictwo SA (PGN)’s plan to raise as much as 500 million euros ($667 million), the first overseas offering by a Polish utility in a decade, would set a benchmark for borrowers seeking to finance new power plants that meet European Union emissions standards. Poland estimates funding needs at more than 38 billion euros by 2023.

The sale may be on hold with the premium on bonds of PKO Bank Polski SA, the main lender to Poland’s largest companies, at the highest since their issue at 214 basis points over government debt from an average 142 in 2011. Costs for PGNiG peers with similar investment-grade ratings also grew as Europe’s debt crisis cut demand for emerging-market assets. Yields on Petroleos Mexicanos’ 2017 debt rose to a 15-month high of 5.17 percent from 4.19 percent on Aug. 18. OAO Gazprom 2017 yields hit 5.9 percent on Sept. 26, the highest since May 2010.

“I don’t think that even a high quality name like PGNiG can get anything done right now,” James Croft, the head of emerging-market fixed income at Mitsubishi UFJ Securities in London, said Sept. 30. PGNiG may delay the issue and “be ready to move when the next window of opportunity appears,” he said.

PGNiG Chief Financial Officer Slawomir Hinc said the company has finished its presentations to investors. “The process is continuing and if the market is good, we will issue the first tranche,” he said in a phone interview from Warsaw yesterday.
Interest Cost

PGNiG would have to pay annual interest as high as 370 basis points over benchmark mid-swap rates to sell the bonds, said Andrzej Czarnecki, who manages $760 million in money-market and fixed-income funds at Union Investment TFI SA in Warsaw. Pemex’s bond yield was 307 basis points over mid-swaps and Gazprom’s was 316 basis points above the benchmark yesterday. The seven-year mid-swap rate in euros was 2.27 percent yesterday.

“This isn’t the best moment for Eurobond sales, not only for PGNiG, but for other” companies in Europe, the Middle East and Africa, Czarnecki said by phone on Oct. 4. “The market is completely illiquid.”

Yields on emerging-market corporate bonds jumped the most since October 2008 last month, rising 99 basis points, or 0.99 percentage point, to 6.8 percent, according to JPMorgan Chase & Co.’s Corporate EMBI Composite Blended Yield index. Yields reached 7.14 percent yesterday.
Power Switch

PGNiG is seeking to finance a 2.96 billion-zloty ($900 million) acquisition of Warsaw-based heating and power plants signed in August and awaiting regulatory approval, as the gas producer and distributor moves into electricity generation.

Polish power demand increased 5.3 percent between January and August, outpacing the government’s forecast and last year’s 3.6 percent pace, as the European Union’s largest eastern economy speeds up infrastructure investments in preparation for hosting the European soccer championships next year.

Poland’s long-term energy policy envisages 55 percent growth in electricity consumption between 2006 and 2030, making it one of Europe’s biggest growth markets. PGNiG has a 27 billion-zloty five-year investment program. In August, Moody’s Investors Service cut the outlook on the company’s Baa1 rating to negative, citing its spending plans.

Failing to tap international debt markets wouldn’t pose a “problem” for PGNiG, which could raise the money on the domestic debt market or through a loan, said Monika Kalwasinska, an analyst at the brokerage of PKO BP in Warsaw.

“At the moment it’s rational for them to wait,” Kalwasinska said by phone today. “PGNiG isn’t in debt, so it can easily rely on its domestic debt for another year.”

Zloty-denominated government bonds of maturities exceeding one year tumbled 15.7 percent in dollar terms last quarter, the third worst returns worldwide after Greece and Hungary, according to indexes compiled by the European Federation of Financial Analyst Societies and Bloomberg. In local currency terms the bonds returned 1.4 percent.

The cost to insure Polish debt against non-payment using credit-default swaps climbed 143 basis points to 296 basis points between July and September in the biggest quarterly increase since December 2008.

The swaps rose to 313 basis points on Oct. 4 and were 55 basis points below the average for governments in eastern Europe, the Middle East and Africa included in indexes compiled by Markit.

The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent should a government or company fail to adhere to its debt agreements.
Extra Yield

The extra yield demanded to hold Poland’s dollar bonds rather than U.S. Treasuries climbed 16 basis points on Oct. 4 to 344 basis points, the highest since Jan. 22, 2009, according to JPMorgan Chase & Co. indexes.

The additional yield on Poland’s 10-year bonds in zloty compared with their German equivalent in euros reached the widest gap since November 2002 at 443 basis points on Sept. 22. The spread amounted to 403 basis points yesterday.

Eurobond investors last had a chance to buy into Polish utility bonds in 2001, when PGNiG and power producer Elektrownia Turow SA sold debt. Oil refiner PKN Orlen SA pulled out of a euro-denominated issue in late 2010 and now is looking to PGNiG to open the door to foreign financing.

“The PGNiG issue is important as it could be a benchmark for pricing of our future Eurobond sales,” PKN Orlen Chief Financial Officer Slawomir Jedrzejczyk said on Oct. 4.
PGE, Tauron

Polish energy companies are likely to start selling Eurobonds within three to five years, according to Arkadiusz Wicik, director of European energy and utilities at Fitch Polska.

Poland’s largest utilities — PGE SA, Tauron Polska Energia SA (TPE) and Enea SA — will need to raise funds as early as next year. Poland’s domestic corporate bond and commercial paper market, with a total outstanding value of 40 billion zloty at the end of August according to Fitch, may not be able to absorb the utilities’ investment spree.

“The Polish debt market doesn’t appear to have the potential to finance the borrowing needs of the Polish energy sector over the next 15 to 20 years,” Marek Marciniak, a fixed income analyst at the Polish pension fund of ING Groep NV in Warsaw, said in a phone interview yesterday.

Polish infrastructure investments will total 500 billion zloty through 2020 and Eurobond sales are essential for their financing, Andrzej Kopyrski, deputy Chief Executive Officer of UniCredit SpA’s Polish unit, Bank Pekao SA, said on Oct. 4.
Four-Year Plan

PGE has a four-year 38.9 billion-zloty investment program that ends next year and has been fully funded by bank loans and zloty bonds. After that, its investment needs may rise to as much as 10 billion zloty a year, CEO Tomasz Zadroga said, according to a report in Parkiet newspaper on Sept 29. The company, which had discussed a Eurobond issue since 2009, put foreign financing plans on hold earlier this year.

Tauron Polska Energia SA, PGE’s biggest competitor, plans to spend as much as 45 billion zloty by 2020 as it aims to add 2,400 megawatts of capacity, with about 1,700 megawatts scheduled for decommissioning.

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